2003 International Direct Real Estate Investment

Urban Studies
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International Direct Real Estate Investment: A Review of the Literature

C.F. Sirmans and Elaine Worzala
Urban Stud 2003 40: 1081
DOI: 10.1080/0042098032000074335
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Urban Studies, Vol. 40, Nos 5–6, 1081–1114, 2003
International Direct Real Estate Investment:

A Review of the Literature
C. F. Sirmans and Elaine Worzala

[Paper received in final form, December 2002]
Summary. This paper provides a critical review of research on international direct real estate
investment issues. To date, no review article has explored the various findings of studies
completed on the benefits of international real estate diversification. In the past 10 years, the
quantity and variety of work have increased dramatically. The paper is organised by how
investing in a real estate asset is analysed: in a mixed-asset portfolio context or a real-estate-only
portfolio context. A fourth section focuses on research that has explored currency risk, one of the
prevailing risks associated with international investing. The last section provides conclusions
about the research and offers ideas for future research in this growing area of real estate
investment.
Introduction
Since the inception of modern portfolio companies and pension funds around the
theory (MPT; see Markowitz, 1959), many world) was $23 trillion (Henderson In-
researchers have studied and attempted to vestors, 2000). The estimated total invested
model the benefits of establishing di- institutional direct property market is around
versification strategies for portfolio invest- $1.3 trillion which includes direct property
ments. Initial work only focused on potential holdings of insurance companies, pension
gains from combining different stocks into a funds and property companies in the major
single portfolio, but research has been ex- economies. They also estimate the global
tended into bonds, currencies, real estate, investible institutional property market and
international stocks and bonds and, recently, conclude that it is likely to be around $4.3
researchers have explored the potential trillion, although they recognise that this
benefits of including international real estate number is difficult to determine and suggest
in investment strategies. it could be as high as $6 trillion or as low as
Institutional investors—such as insurance $3.5 trillion. Whatever the true amount, it is
companies, banks, corporations and pension large and has certainly not been fully tapped
funds—are the primary capital players in by the institutional investment community.
most investment environments today. As de- As illustrated in Table 2, the authors estimate
tailed in Table 1, the estimated value of the that only about one-third of the market is in
global investment market in 2000 (insurance the US. This suggests that, if an investor
C. F. Sirmans is in the Center for Real Estate and Urban Economic Studies, School of Business, University of Connecticut, 2100 Hillside
Road, Unit 1041RE, Storrs, Connecticut 06269–1041, USA. Fax: 860 486 0349. E-mail: cf@business.uconn.edu. Elaine Worzola is
in the Real Estate Institute, School of Business–Olin Hall, Room 340, University of San Diego, 5998 Alcala Park, San Diego, CA
92110–2492, USA. Fax: 619 260 7496. E-mail: eworzala@sandiego.edu. The authors wish to extend their appreciation to Will
McIntosh, Martin Hoesli and Ken Gibb for comments and suggestions.
0042-0980 Print/1360-063X On-line/03/05/61081–34  2003 The Editors of Urban Studies

DOI: 10.1080/0042098032000074335
1082 C. F. SIRMANS AND ELAINE WORZALA
Table 1. Portfolio size of institutional investors across the globe

(in billions of US$)
Pension funds Insurance companies

(1998 data) (1999 data)
US 7 400 3 996
Japan 2 285 2 216
UK 1 159 1 651
Canada 585 164
Netherlands 470 230
Switzerland 350 252
Australia 205 179
Germany 363 950
France 77 712
Ireland 46 38
Hong Kong 21 3
Total 12 961 10 391
Source: Henderson Investors (2000).
Table 2. Estimates of the size of the investable institutional real estate

portfolio in 2000
Institutional real Percentage of

Regions estate (US$ billions) global portfolio
North America 1598 37.3

UK 361 8.4
Continental Europe 1262 29.5
Asia 825 19.3
Australasia 103 2.4
South America 131 3.1
Total 4280 100.0
Source: Estimated by Henderson Investors (2000).
wants to hold a global portfolio, international Webb and O’Keefe (2002) suggest that real
investments should be made. Given that estate comprises 10–20 per cent of total cap-
stock and bond markets were about $50 tril- italised stocks, bonds and real estate in de-
lion in 2000, the global property market rep- veloped countries.
resents probably about 10 per cent of the Recently, industry studies produced by
world portfolio. This percentage could actu- major investment advisors, including Hen-
ally be higher given the bullish stock markets derson Investors (2000), Prudential (1988
in the past several years. and 1990), Jones Lang LaSalle, Lendlease,
Conner et al. (1999) also suggest that the and AIG, have all advocated that inter-
US market makes up one-third of invest- national real estate should be the next fron-
ment-grade real estate on a global basis. tier for the institutional investor. Webb and
They suggest that 80 per cent of the invest- O’Keefe (2002) suggest that there are only
ment-grade global property portfolio is in 14 countries that can actually support real
‘core’ investments, 12 per cent is ‘non-core’, estate as a unique asset class while the rest of
while 8 per cent of the available portfolio is the world must invest internationally to have
in emerging real estate markets. Finally, access to the investment-grade real estate

INTERNATIONAL DIRECT REAL ESTATE INVESTMENT 1083
Figure 1. Private real estate investment funds available in 2002 (in billions of euros).
Source: Baum (2002). Core funds normally concentrate on stabilised income-producing assets with
expected returns of 8–10 per cent and limited or no leverage; value-added funds concentrate on adding
value through renovation and often buy properties with some vacancy anticipating returns of 11–16 per
cent with a moderate use of leverage; opportunity funds complete new development or buy empty buildings
anticipating much higher returns using a significant amount of leverage.
asset class. Thus, in their opinion, inter- estate funds, in 1991 there were only a hand-
national funds are essential for investors. ful of funds that had been established to
Over the past decade, there has been a invest in international real estate (Worzala
proliferation of private investment vehicles. 1992). For most of the funds, money had
These investment opportunities have grown been accumulated, indicating a growing in-
from slightly less than 1 billion euros in 1991 terest in international real estate, but no
to 80 billion euros in 2002 (Baum, 2002). investments had been made. Whitaker (2001)
Investors have over 100 funds from which to found that during 1992–99 there had been
choose. Baum (2002) examines the funds $1.7 trillion in private capital flows to emerg-
that are investing in Europe. As illustrated in ing markets. As interest grows and financial
Figure 1, the majority of the funds are ‘op- capital markets become more integrated, it
portunity-based’ funds, commonly defined as is important to review the proliferation of
funds investing in high risk/high return (new studies that examine the potential benefits
development or vacant buildings) with ex- and additional risks of a global direct real
pected returns of more than 16 per cent. A estate investment strategy.
significant amount of these funds is not fully Given the volume of funds interested in
invested, with 30 billion euros available for international real estate investments, it is not
investment opportunities in 2002, primarily surprising that there has also been a
in continental Europe. The majority of funds significant amount of research focused on the
are run by US managers and are evenly split potential benefits of an international real
between global portfolios (slightly under 35 estate investment strategy. The real estate
billion euros) and European portfolios (30 academic community first began to examine
billion euros). Some funds have a single this issue in the mid 1980s, but in the past
country or region focus but the value of these five years research has proliferated due to
funds is about 18 billion euros. To illustrate increased availability of data as well as the
the dramatic growth of the international real increased interest of institutional investors.

Investment management and advisory firms real estate performance, as measured by the
clearly support and promote the di- rental indices reported to the UN, with stocks
versification benefits of international real es- in general and then stocks of US multi-
tate and have been instrumental to the debate national firms. They apply the CAPM model
as they amass large quantities of data and to examine the riskiness of the international
work to improve the quality of research in investments. They use a weighted average of
this area. the percentage change in the rent values of
This paper provides a critical review of the eight countries to create a world market in-
growing body of literature focused on inter- dex. The weights are based on the GNP
national direct real estate investment. It is values of each of the countries. The authors
organised by how the direct real estate in- then compare the systematic risk coefficients
vestment is analysed: in a mixed-asset port- (betas) and find that they are significant for
folio context or a real-estate-only portfolio 11 of the 14 countries. They conclude that
context. Additionally, where appropriate, the real estate has less systematic risk than the
treatment of exchange rates is noted as this more traditional financial assets and could be
can distort the analysis from the modern an appropriate tool for diversification.
portfolio context, particularly in the mixed- Marks (1986) provided a fairly extensive
asset analysis. If all assets in one country are empirical study of how investors of different
adjusted by the same currency fluctuations, nationalities might benefit from investing in
they will become highly correlated and only the Prudential Property Investment Separate
the best-performing assets will enter the in- Account (PRISA)—a US Commingled Real
ternational efficient portfolios. The fourth Estate Fund. He derives returns from the
section of the paper explores studies focusing perspective of six international investors
explicitly on how to mitigate the currency to ascertain how currency translation and
risk that makes implementation of an inter- home-country inflation affect the returns to
national strategy difficult. The fifth section of each investor. He uses quarterly data from
the paper provides conclusions and high- 1978 to 1984 and finds that US real estate
lights ideas for future research. outperforms every country’s equity index
except Japan’s. The time-period investi-
gated, however, is a time when the US
Studies Examining a Mixed-asset Portfolio
dollar strengthened against all major curren-
Strategy
cies. The authors do not differentiate be-
Table A1 (see Appendix) summarises the tween the returns generated by the real estate
studies examining the addition of inter- and the returns generated by the currency
national direct real estate investments into a translation.
mixed-asset portfolio. For each of the various Webb and Rubens (1989), in an unpub-
studies is reported the type of real estate data lished working paper, were the first to exam-
used in the analysis, the international markets ine the potential diversification benefits from
studied, the time-interval of the analysis, the including direct international real estate in-
type of analysis that was completed, a brief vestments in a portfolio context. The real
summary of the results and the treatment of estate data are from a proprietary database of
exchange rate risk. investment returns named Finnegan’s Finan-
Ross and Webb (1985) were among the cial Green Sheets, developed by R. F.
first researchers to look at the diversification Loarie.1 Two time-periods of annual data,
benefits from adding direct international real 1926–59 and 1960–86, are examined. Opti-
estate to a mixed-asset investment portfolio. mal mixed-asset portfolios are constructed
Their analysis focused simply on comparing with US Treasury bills, government bonds,
the international real estate with a stock port- corporate bonds, common stocks, small
folio. These authors examined 14 countries stocks, US residential real estate, US
over the 1958–79 period and compared the business real estate, US farmland and UK

business real estate. The Loarie database is and Smith (WGS) for a UK real estate
used to develop the real estate returns that investment. Giliberto finds that real estate
are based on sales transaction data according investments should be considered as an
to the authors. The British business real alternative investment class by both Ameri-
estate data are adjusted for exchange rate can and British investors. He also finds real
fluctuations and returns are analysed from a estate has historically acted as a good
US investor perspective. inflation hedge in both countries particularly
Initial analysis of the data reveals low and during periods of high inflation (1980–82).
negative correlation coefficients when UK This result changes in times of low inflation
returns are compared with traditional US in- where supply and demand factors within the
vestment alternatives. The correlations sug- individual markets influence returns and pro-
gest that UK real estate should provide vide for diversification benefits from real
additional diversification benefits if added to estate investing. Giliberto is one of the first
a domestic-only portfolio. However, when to conclude that US and UK markets are on
efficient frontiers are developed, the UK different real estate and economic cycles and
commercial real estate asset fails to enter the suggests that benefits may be gained from
portfolio at any risk level. The authors attri- holding investments in both countries.
bute the findings to the high volatility of UK Ziobrowski and Curcio (1991) was the
returns, but they provide limited information first of a series of papers where the authors
on the UK data and how they were derived. explore potential benefits from adding inter-
This high volatility could be due to the real national real estate investments to a mixed-
estate itself but, more realistically, it is at- asset portfolio. They measure diversification
tributable to the annual exchange rate gains from the British and Japanese inves-
fluctuations. The US real estate data are also tor’s perspective. In most of their studies,
ill-defined, including both residential and Ziobrowski et al. conclude that investors
farm real estate. These return series may not should not include international real estate
be appropriate proxies for a typical institu- investments as the international real estate
tional investor’s real estate investments. asset class does not enter the portfolios along
Giliberto (1989) compares historical real the efficient frontier. These early studies all
estate investment performance with other tra- suffer from a lack of good quality data span-
ditional financial assets within two coun- ning a long time series. In the US, the real
tries—the UK and US. Rather than looking estate returns are estimated from a composite
at investments in an international perspec- index provided by Ibbotson. It is a combi-
tive, his primary focus is on the domestic nation of residential, agricultural and com-
portfolio for each investor examining mercial real estate measured on an annual
benefits derived from adding the real estate basis. Each real estate sector in the series is
asset class to their investment portfolio. given equal weight. This could be a problem-
Potential benefits from cross-border invest- atic assumption given that agricultural and
ments are only briefly addressed in the residential real estate are not typically held
closing remarks where he notes that by the institutional investor. The UK real
estate index is a combination of two data
the lack of correlation in real returns
series. From 1973 to 1980, UK data were
would have suggested diversification … an
from Jones Lang Wootton and are a combi-
investor would have recognised benefits
nation of a rental value index and a capital
from holding a portfolio containing both
value index. The rental growth index is seg-
US and UK real estate (Giliberto, 1989,
regated by property type (office, shop and
p. 6).
industrial) on a quarterly basis for the entire
Giliberto uses the quarterly Russell–NCREIF period. The capital growth index, however,
Property Index as a proxy for US real estate was available only on an aggregate level for
and a quarterly index from Weatherall, Green the various property types from 1973 to

1977. To get total returns from these two national real estate. The authors adjust the
indices, several simplifying assumptions annual returns and standard deviations to
about the rate of capital appreciation and reflect changes in each currency from the
growth of net operating income for each viewpoint of each investor (American,
property type must be made. While the as- British and Japanese). The adjusted ex post
sumptions made by the authors may be returns are then used to estimate mean annual
reasonable and accurate, they provide no returns and standard deviations together with
supporting justification. intra-investment correlation coefficients. Op-
The second set of data, from 1981 to 1987, timal portfolios at numerous risk-free rates
is a different data series based on pooled data are constructed and the composition of these
from four independent real estate investment portfolios determines the role alternative in-
firms: JLW, Healey and Baker, Hillier vestments play in the portfolios. In almost all
Parker, and Richard Ellis. Although the new portfolios (from every investor’s perspec-
data series provides broader representation of tive), international real estate does not enter
the market, no discussion is provided on how the portfolio to any considerable degree. This
the two data series compare in terms of phenomenon leads to the conclusion that in-
property type, location or performance. ternational investment in real estate provides
Changing components of the data and no additional diversification benefits.
methodology used to calculate returns in They note that, when returns of each in-
midstream creates problems in accurately as- vestment are converted to the investor’s
sessing the consistency of results. Japan is domestic currency, the international invest-
the third market examined and the data series ments become highly correlated with each
provided by the Japanese Real Estate Insti- other. In fact, they write that
tute also required numerous assumptions.
The evidence suggests that volatile ex-
Given the early nature of this research, the
change rate fluctuations induce a level of
authors use a single index model (Elton et
risk in these assets that offset any potential
al., 1976) to compute the efficient frontiers.
diversification benefits (Ziobrowski and
This model requires a market index that the
Curcio, 1991, p. 119).
researchers create by taking equal weightings
of each asset class considered in the oppor- This conclusion is not surprising since all of
tunity set under examination. That is, if UK the assets are being adjusted with the same
financial assets and real estate are the alterna- currency fluctuations.
tive investments available to the investor, the In an unpublished dissertation (Worzala,
index is equally weighted by returns from the 1992) and a working paper (Worzala and
UK financial assets and real estate. The mar- Vandell, 1995), a systematic analysis of
ket index changes with the opportunity set adding international real estate to the more
that is considered in each scenario. This as- traditional stock and bond portfolios is com-
sumption seems intuitively unreasonable pleted from both a US and UK investor’s
since the market value of each asset class is perspective. These authors use the NCREIF
not equivalent and an investor who is trying property index for a US real estate proxy and
to hold the market portfolio would not be the Weatherhall, Green and Smith property
equally invested in each asset class. index for a UK real estate proxy. British
Ziobrowski and Curcio try to determine stocks are proxied by the Financial Times
whether additional diversification benefits Index (FT-A 500) and US stocks by the S&P
can be generated by adding international real 500. The UK bonds are proxied by the 5–15
estate investments to portfolio. Starting with Year Gilt Index and the US bond investments
traditional asset class investments, they sys- are proxied by the Shearson Lehman Hutton
tematically add alternative investment Government/Corporate Bond Index. After
classes—first domestic real estate, then inter- adjusting the real estate data for volatility
national financial assets and finally inter- (due to appraisal-based data), trans-

action costs and liquidity, efficient portfolios ⫺ 0.42 (Australian bonds and USRE) to 0.81
were created first with domestic-only assets, (Canadian bonds/US bonds). They find that
then with the addition of international stocks the autocorrelation analysis suggests risk es-
and bonds and finally with the addition of timates for real estate should be increased by
international real estate. The portfolios with 34–47 per cent depending on the country to
international real estate investments domi- account for the appraisal smoothing and in-
nate domestic portfolios from both the US tertemporal correlations for the real estate
and UK investor’s perspective. The authors assets. The authors also adjust the returns for
analyse both annual and quarterly data and currency fluctuations and examine the results
find in both cases that international real es- from each investor’s perspective. In this
tate enhances the portfolio. The benefits are analysis, they find that accounting for cur-
significantly reduced, however, when currency fluctuations increases the risk associ-
rency fluctuations are incorporated into the ated with the international investments,
data. To adjust for currency fluctuations, the particularly the real estate investments. How-
authors use the Mantell (1986) model incor- ever, the correlation coefficients are reduced
porating both the return from the movement providing evidence that international di-
in currency as well as the impact of the versification benefits could be improved. It is
currency fluctuation on the return of the in- not clear how the currency adjustments are
vestment. In addition, the portfolio variance made or if transaction costs are included in
equation is revised to incorporate the vari- their analysis.2
ance of the currency fluctuation and the cor- Quan and Titman (1997) compare the per-
relation of not only real estate assets but also formance characteristics of 17 real estate
the real estate assets and the currency markets with their respective stock markets.
fluctuations. These researchers examine both These authors complete their analysis using
the risk and return factors generated from the the JLW all-cities index for most of the real
local real estate markets and the risk and estate markets (for Australia, Canada, New
return characteristics more appropriately at- Zealand and the US, they use the Frank
tributable to currency fluctuations. To ex- Russell Company indices) and the Morgan
plore separately the risk and return Stanley Capital International Indices for the
characteristics of the real estate markets and stock markets except for Malaysia (KL Com-
exchange rate fluctuations, efficient port- posite Index) and Indonesia (all stocks index
folios are built twice—first in local currency on the Jakarta exchange). They analyse the
terms and then converted to each investor’s time-period of 1977–94 and examine the
domestic currency to examine the real estate capital and income returns as well as total
investments performance adjusted for cur- returns for the real estate. They look at both
rency (that is, including the risk and return the correlations between the property in each
generated from exchange rate fluctuations). country and the correlations with stock
These studies are some of the first explicitly prices. In the real estate area, the authors find
to explore the impact of currency risk on the a wide range of correlation coefficients from
construction of portfolios including inter- ⫺ 0.79 to 0.886 for capital returns and
national real estate. ⫺ 0.821 to 0.999 for the income portion of
Newell and Webb (1996) analyse the the returns. In the aggregate, they find the
mean returns, standard deviations and corre- relationship between real estate and stock
lation coefficients for five countries: US, UK, markets to be strong and positive although it
Canada, Australia and New Zealand. They varies from country to country. It is most
examine biannual data from 1985 to 1993 significant in the Asia–Pacific region with a
and test for autocorrelation in the time series few European countries also having a posi-
due to the appraisal smoothing. As with pre- tive relationship. Diversification into inter-
vious studies, the authors find low correla- national real estate for investors from these
tions between the asset classes ranging from countries may not be beneficial. However,

the US, Australia, Canada and Hong Kong find that there were significant positive rela-
markets did not have significant correlation tionships between the real estate capital val-
coefficients between real estate and the stock ues, estimated rental rates and stock market
prices indicating that investing in inter- returns. They also find that a large degree of
national real estate into these markets could the positive correlation can be attributed to
provide diversification benefits. No currency changes in economic fundamentals, particu-
analysis was completed in this study. All larly changes in the GDP of the countries.
returns were left in domestic terms implying This result provides evidence that a common
that investors could be fully hedged at no factor does exist. The authors also test for the
cost. impact of inflation and find real estate to be
Stevenson (1998) also examines a mixed- a good long-term hedge but not on a short-
asset portfolio including multiple countries. term basis. The authors complete the analysis
He examines an opportunity set of 18 stock both with and without currency adjustment to
markets, 5 bond markets, US direct real es- a US investor’s perspective but provide no
tate proxied by NCREIF, US indirect real analysis of the results. The common factor
estate proxied by the NAREIT equity index, analysis is completed with US dollar denom-
UK direct real estate proxied by the JLW inated returns that incorporate the full impact
Property Index and UK indirect real estate of currency fluctuations on the investor.
proxied by UK property companies. He Chua (1999) does an extensive analysis of
analyses quarterly data from 1980 to 1996 a mixed-asset portfolio including inter-
and focuses primarily on whether or not national real estate by examining assets from
domestic real estate maintains its place in a five different countries. He includes direct
mixed-asset portfolio when international real estate, stocks, bonds, cash and gold and
financial assets are added to a portfolio. analyses quarterly data over the period 1977–
When the international financial assets are 97. Adjustments are made for many of the
added to the portfolios for both a UK and US often-cited problems with real estate data
investor, direct real estate investments re- including appraisal smoothing, taxes, trans-
main in the efficient portfolios, dominating action costs and asset management fees. He
the low risk/return level. The author notes also uses a constrained portfolio that includes
that the allocations are probably below the no short sales, a maximum level of any one
benchmark performances for most pension asset in one country set at 20 per cent, a
funds so he constrains the domestic equities maximum of any asset in any country set to
and bond investments to a minimum of 15 the GDP weight of the asset in its country
per cent each. Not only is the performance of and, finally, maximum allocation to cash is
the efficient portfolios enhanced, but real set at three times the world-wide average of
estate takes on a larger allocation in the pension fund allocations to cash. The
portfolio. His analysis is done with and with- efficient frontier that includes international
out currency adjustment but no conclusions real estate in the opportunity set clearly out-
are drawn from the results. The author does performs portfolios that do not. The inclusion
note that hedging may be an important con- of real estate reduced portfolio risk by as
sideration but it is not incorporated into his much as 16 per cent. Optimal portfolio allo-
analysis. cations to real estate ranged from 3.7 to 20.7
In a second paper, Quan and Titman per cent, depending on the level of risk/
(1999) use the same data from their earlier return for the portfolio. As for currency risk,
research and attempt to try to isolate a com- returns were all adjusted to an individual
mon factor influencing the returns in the investor’s perspective but no specific analy-
various countries. They analyse the annual sis on currency implications is completed.
data from 1984 to 1996. To examine the Cheng et al. (1999) use a bootstrapping
stability of returns, they split the data in to technique to create a more extensive data-set
sub-periods: 1983–89 and 1990–96. They for analysing the benefits of international

diversification. Similar to earlier work by national real estate in a mixed-asset portfolio.

Ziobrowski, they examine mean returns, They examine the benefits from an inter-
standard deviations, coefficient of variations, national diversification strategy from the per-
correlation coefficients and efficient port- spective of seven different countries: the US,
folios. All returns are adjusted annually to the UK, France, the Netherlands, Sweden,
the perspective of the three different in- Switzerland and Australia. They use annual
vestors: British, Japanese and American. data from 1987 to 2001 for the various asset
From the correlation analysis, they find that classes. For the direct real estate, they use a
the coefficients are generally quite low be- corrected series for the often-noted appraisal
tween domestic markets and foreign markets. smoothing problem associated with ap-
However, same-country investment correla- praisal-based returns. They examine the
tions are relatively high and the currency- mean returns, standard deviations, corre-
adjusted international investments from the lation coefficients and efficient frontiers for
same country are also highly correlated due three scenarios of financial assets including
to the common currency adjustment. They indirect real estate only, adding domestic
conclude that currency risk is very large and direct real estate, and adding international
dominates the asset volatility of foreign indirect real estate proxied by a ‘world’ real
vestments. Therefore, they suggest that an estate index. This index is created by weight-
investor should view all three foreign assets ing the constituent indices by their respective
as one asset when contemplating di- GDPs. The researchers find that the corre-
versification. They compute efficient fron- lation coefficients of direct and indirect real
tiers with three different opportunity sets: estate are relatively low, suggesting the po-
domestic only, domestic plus foreign tential for diversification benefits from an
financial assets and domestic plus inter- international investment strategy. The results
national financial assets and international real vary depending on the country analysed.
estate. This analysis provides some evidence Hoesli et al. (2002) further examine the
that under some circumstances international performance characteristics assuming that in-
real estate investments do fall into the opti- vestors hedge the currency risk of the inter-
mal portfolios (up to 20 per cent). However, national investments with forward contracts.
they recommend that only the high risk toler- When these hedged returns are used, the real
ant investors consider foreign real estate in estate correlations stay relatively constant but
the 5–10 per cent allocation range. the bond correlations increase. In both
A report from AIG (2001) analyses the scenarios, asset allocations to real estate
mean returns, standard deviations and corre- within the efficient portfolios fall in the 15–
lation coefficients for an opportunity set that 25 per cent range, including both domestic
includes US stocks and bonds, direct and and international direct real estate invest-
indirect US real estate (NCREIF and ments. It is interesting to note that indirect
NAREIT) and direct real estate in the UK real estate does not enter many of the
and Ireland from 1979 to 2000. Efficient efficient portfolios. The researchers incorpor-
frontiers were constructed when adding inter- ate the costs of the hedging strategy into their
national real estate to the portfolio. The analysis and find that the impact of hedging
efficient frontiers from including inter- varies depending on the country under analy-
national real estate in the opportunity set sis. The authors suggest that hedging does
outperformed domestic portfolios providing not improve performance for a UK or US
evidence that international real estate di- investor but it is a beneficial strategy for
versification benefits are possible. No adjust- investors from other countries under analy-
ment was made for currency fluctuations of sis.
the international real estate investment. All of the studies reviewed in this section
Hoesli et al. (2002) do a thorough explo- have one thing in common: the analysis com-
ration of including direct and indirect inter- bines real estate with other financial assets in

a mixed-asset portfolio context. In addition, estate asset class. This is important particu-
even though the studies use a number of larly since the majority of the real estate
different return series and countries, the con- return series used in the summarised studies
clusions in almost all of the research indicate are under a 15-year time-span. In addition,
that an international direct real estate di- direct real estate investments are not single-
versification strategy provides benefits. period investments and they lack the liquid-
Efficient portfolios that include international ity of the more traditional asset classes.
direct real estate in a mean–variance frame- Direct real estate is characterised by its long
work outperform those that do not. The only holding-period so the international studies
studies to argue consistently that inter- that convert returns to a given investor’s
national direct real estate should not be in- perspective are ignoring these very important
cluded in a mixed-asset portfolio were done characteristics of a direct real estate invest-
early when access to real estate data was ment.
extremely difficult. In addition, their treat- Finally, as discussed by Lizieri and Finley,
ment of currency fluctuations requires an there are additional risks associated with an
implicit assumption of annual repatriation for international diversification strategy that
the international investments. This forces the include asset-specific, domestic sector, dom-
assets in one country to become highly corre- estic market, international sector, inter-
lated with each other so only the highest national market and currency markets. It is
returning assets were allocated in the difficult to incorporate these risks into the
efficient portfolios of a given country. traditional mean–variance framework for a
Although the results are interesting and mixed-asset portfolio and for the most part
relatively consistent, it is important to pro- they are ignored in the studies summarised in
vide some caution and caveats with the stud- this section.
ies that are summarised in this section. The
use of the mean–variance framework (MPT)
Studies Using a Within-real-estate Asset
for real estate has been seriously questioned
Class Portfolio
by many researchers. Lizieri and Finley
(1995) provide one of the earliest critiques of This section reviews the research that fo-
its use in an international context. The ma- cuses on including international direct real
jority of problems that they uncover continue estate investments in a real-estate-only port-
to plague the international real estate re- folio. The studies are summarised in Table
search community. They analysed the per- A2 (see Appendix). As in the previous sec-
formance of the suggested portfolios of tion, the majority of work finds that inter-
Sweeney (1989) and found that a fund using national real estate does provide
the proposed strategy would have had a dis- diversification benefits. However, the treat-
astrous performance. The authors suggest ment of currency risk in most of the studies
several reasons for this including technical is ignored: either researchers complete the
problems with the data (rental rates as a analysis in local currency, implicitly as-
proxy for performance assumes that yields suming a costless hedge; or, returns are con-
are stable over time) and the corner solutions verted to an individual investor’s perspective
often resulting from the mathematics of with no analysis of the currency risk pro-
modern portfolio theory. vided. These issues are discussed in the next
Many of the summarised studies in this section of this paper.
section note the instability of returns and Some of the early studies advocating inter-
how results are dependent on the time-period national diversification from a ‘within-asset-
analysed. With unstable returns, the histori- class’ perspective are Sweeney (1988 and
cal mean returns, standard deviations and 1989), Reid (1989), Wurtzebach (1991) and
correlation coefficients between countries Baum and Schofield (1991). It is interesting
may not be the best way to analyse the real to note that most of the pioneers in this area

were researchers working in industry rather analysis on the correlation matrix of the vari-
than academic researchers. Wurtzebach was ous return series. He arrives at a similar
working with Prudential Real Estate In- conclusion to that of Sweeney—that di-
vestors, Sweeney and Reid were working for versification benefits can be gained from
Richard Ellis; and Baum and Schofield, al- adopting an international real estate portfolio
though published by the University of Read- strategy.
ing, were working with Henderson Real Arnold and Kavanaugh (1988) examine
Estate Strategy when the work was com- data from the Jones Lang Wootton pro-
pleted. prietary database over a 10-year time-
Given a paucity of data, research done horizon. They compare the JLW property
during this early time-period was relatively index in London, Paris and Sydney with the
crude. Sweeney (1988) examines rental value US NCREIF Index from 1978 to 1987. They
growth rates for 16 countries from 1970 to find that Paris and Sydney substantially out-
1986.3 Overall findings indicate that an in- perform the US market during this time-
vestor would have earned superior returns if period and that the standard deviations of
a global investment strategy had been returns for London and Paris indicate that
adopted. The amount of diversification high returns with relatively low risk are poss-
benefits was dependent on the nationality of ible. Also using correlation analysis, the au-
each investor. She provides only a cursory thors find US real estate to be positively
example of how international real estate di- correlated with returns in Sydney and Paris,
versification could help overall portfolio re- but negatively correlated with investments in
turns by examining a scenario in which the City of London. It is unclear if the returns
Glasgow real estate is added to a US-only are adjusted for currency risk. No further
portfolio. This situation would increase an- analysis on diversification benefits is com-
nual returns from 7.45 per cent to 8.25 per pleted but in their concluding comments the
cent and reduce overall portfolio risk (mea- authors acknowledge the many differences
sured by the standard deviation) by 48 per between the individual real estate markets,
cent, from 12.78 to 6.58, indicating substan- including vacancy rates, lease structures and
tial benefits from adding an international in- capital markets. The authors suggest that the
vestment to the portfolio. Sweeney adjusts differences may play a significant role in the
the international returns for currency from different levels of real estate performance in
each investor’s perspective but makes no each market and therefore provide substantial
distinction between the risk and return gener- diversification benefits in a portfolio context.
ated from local real estate markets and cur- An industry report was completed and dis-
rency fluctuations. tributed in 1988 by a major US institutional
In a supplementary article, Sweeney investor and a large real estate advisory firm
(1989) completes a similar analysis, but adds (Prudential/JLW, 1988). With in-house data-
an efficient frontier dimension. In this study, bases on six international markets from 1978
local rental growth rates in 11 real estate to 1987, the authors build hypothetical in-
office markets from 1978 to 1988 are vestments in Class A office space in the
analysed. Sweeney uses an optimisation prime international business districts of each
model to derive efficient portfolios and asset country.4 That is, the authors create an insti-
allocations. For the maximum return and tutional office building investment that is
risk, the entire portfolio would be invested in hypothetically purchased in 1978 and held
Sydney. Yet, for a minimum risk and return until 1987. Investments are assumed to have
level, international investments are held in multiple tenants and the authors try to incor-
the efficient portfolio and assets are split porate different lease terms, market rent re-
between 7 out of the 11 countries. Reid views and rent indexation that are common
(1989) uses the same rental value growth in the different countries under analysis. An-
data as Sweeney (1989) and focuses his nual returns are calculated by taking each

year’s net income and applying the respect- and finds that UK property returns have no or
ive market capitalisation rate to derive an negative correlation with all of the US assets
estimated capital value for the hypothetical except inflation. He then builds property-
investments. Total returns, income returns only portfolios and systematically alters the
and capital returns are all based in local allocations to one country or the other. He
currency. finds that an investor would gain from hold-
Two portfolios are analysed, one equally ing both US and UK property in one port-
weighted between all six markets and the folio. To get the longer time-series he is
other more heavily invested in the larger forced to combine two data-sets for both
investment markets—London, Tokyo and the countries. In the US, he uses the EAI survey
US. Results favour a diversified portfolio and the NCREIF Index; while in the UK, he
over single-country investments and the au- combines the JLW Property Index with the
thors conclude that investors with an inter- IPD index in the later years. For his portfolio
national investment strategy experience the analysis, he did not adjust for currency
best of both worlds—increased levels of fluctuations but he did examine the perform-
return and lower levels of risk. ance characteristics with and without cur-
Wurtzebach (1991) examines vacancy rency adjustments. He finds that the currency
rates, rental value changes, capitalisation adjustments significantly alter the return pat-
rates and projected rates of return for office terns for the various asset classes and he
investments in five major metropolitan areas. suggests that an investor should simply take
He compares the individual markets with a the long view of real estate and ignore short-
global portfolio.5 He finds that in all cate- term currency fluctuations.
gories the global portfolio has reduced In her unplublished dissertation, Worzala
volatility from the US-only portfolio. In (1992) also examined the real-estate-only
many cases, the global portfolio also has portfolios on an international scale. Using the
lower volatility than the single-country port- same data (NCREIF for the US and Weather-
folios. The data span from 1978 to 1989 all, Green and Smith for the UK), she exam-
(estimates are used for 1989) and are based ines the means, standard deviations and
on annual holding-periods. All of the return correlation coefficients for office, retail and
data are in local currency, so the analysis industrial property. She finds that correlation
assumes that investors can costlessly fully coefficients are relatively low for all of the
hedge the international investments. The au- different property types. She constructs
thor is one of the first to consider explicitly efficient frontiers with and without the inter-
some of the additional risks of non-US real national investments and with and without
estate investments including: lack of local currency fluctuations. As with her analysis in
knowledge (he suggests joint ventures could the mixed-asset portfolio context, Worzala
be the solution), currency risk (he advocates finds gains from international diversification
hedging annual cash flow), political risk (he for the real-estate-only portfolios but en-
suggests is greater in less mature markets) hanced performance is more likely if local
and the smaller scale of other markets com- returns are used for the international invest-
pared with the US (he suggests this could ments
actually enhance performance of the invest- Eichholz et al. (1995) also examine the
ment as population densities are higher and prospects of property type diversification but
with highly regulated markets, the compe- they compare the results on a country basis
tition may be less). and do not formally test the potential benefits
Gordon (1991) compares real estate with of international diversification. In addition,
the alternative financial assets and computes they focus on regional diversification within
mean returns, standard deviations and corre- the different countries. For the US, the
lation coefficients for all of the asset classes. NCREIF Index by Property and Geographi-
He uses a return series from 1970 to 1990 cal Location from 1983 to 1992 is employed.

The UK real estate investment was proxied conservative portfolios are tilted towards the
by the Investor’s Chronicle Hillier-Parker in- US and continental Europe investments
dex from 1973 to 1993. Although a compari- while more aggressive portfolios contain in-
son is made, the analysis is primarily done vestments in the Asian and Iberian countries.
within country rather than across country. All of the data were converted to a US
The time-series interval for the US is quar- investor’s perspective.
terly while the UK is biannually. The authors Hudson-Wilson and Stimpson (1996)
used the Jennrich test of correlation matrices complete an analysis of benefits from inter-
and found that diversification benefits are national diversification from a Canadian in-
greater for a geographical strategy rather vestor’s perspective. They examine the
than an investment strategy based on prop- impact of adding US real estate on a national
erty type. They also examined efficient fron- level, by different property types and 50
tiers and found that diversification benefits different US markets. They use the NCREIF
varied extensively depending on the country, combined index for the US total return. For
property type or region under analysis. the property type and geographical analysis,
Goetzmann and Wachter (1995) examine they use a proprietary database created by
the office market only and use the ICPA Property and Portfolio Research. The data-
database of asking rents and yields from 21 base is based on an econometric model fore-
countries. For the majority of countries, the casting the total returns for the various
data series is on an annual basis and extends markets on an unleveraged basis. For
from 1986 to 1993. They analyse returns Canada, the authors combine the Mourgand
over time and use principal components Property Index (1980–85) with the Russell
analysis to find a common factor from the Canadian Property Index (1986–94). The au-
various return series. They create efficient thors compute the traditional mean returns,
portfolios and use K-means cluster analysis standard deviations and correlation
and bootstrapping techniques to examine the coefficients as well as the construction of
potential benefits of diversification. They mean–variance-efficient portfolios from the
find significant evidence that the property Canadian investor’s perspective. They begin
crash of the 1980s was indeed a global crash their analysis with the national-level US data
and that the performance of office market and then expand into the more specialised
investment moves with a global business markets. At the national level, the re-
cycle. Using principal component analysis, searchers find that including US real estate in
the authors found that 44 per cent of the the portfolio enhances an exclusively Cana-
variation in returns was due to a common dian opportunity set.
factor. Therefore, these authors question The authors then systematically analyse
gains to diversification by holding inter- the impact of property type and find that
national investment in office property. In ad- apartments have the greatest impact on the
dition, they also use an efficient frontier portfolio performance. When analysing the
(after noting the problems with it) to show US databased on geographical location, they
that naı̈vely using the MPT model sends an find that the results shift depending on which
investor chasing after the past winners. These property type and metropolitan area are in-
results show clearly that inputs for these cluded. These authors attempt to recognise
models are extremely important and very the impact of currency fluctuations on returns
sensitive. as the full analysis was completed with and
With their K-means clustering analysis, without conversion to the Canadian dollar.
the authors find that the selected countries Like Worzala (1992), these authors find that
can be divided into three groups, although an the results are very different and acknowl-
investor could have as many as seven differ- edge that the risk from currency changes
ent groups to invest in. North America clus- could be substantial. They suggest that hedg-
ters with the UK and Australia. The more ing might be a good idea but caution that in

a portfolio context the currency exposure for justed and unadjusted mean returns and cor-
the whole portfolio rather than just the inter- relation coefficients are not statistically
national real estate needs to be considered. significant. When comparing the efficient
They suggest that a currency overlay man- frontiers, with and without currency adjust-
agement strategy could be considered to min- ments, the authors find that the increased risk
imise the risk for the entire portfolio. from the currency fluctuations is marginal
D’Arcy and Lee (1998) focus their analy- and also not statistically significant. The au-
sis on the European markets and analyse thors conclude that there are significant gains
which is the better diversification strategy: from international diversification but that the
country, property type or city type. For the risk of currency fluctuations did not
city-type analysis, they separate the cities significantly impact returns on the fully di-
into two classifications: a major financial versified international office portfolio. These
centre in a country or a secondary city in the authors suggest that the movements between
same country. They use the ICPA/ONCOR the exchange rate returns and the fully di-
return series and create a multiple regression versified office portfolio returns provide a
model with dummy variables to represent the natural hedge against the exchange rate
three different types of diversification. In volatility.
their analysis, they find there is more to be Case et al. (1999) examine the GDP
gained from analysing across countries, but influence on income and capital returns for
city type also provides diversification real estate investments. They use the ICPA
benefits. The authors caution, however, that data and examine 22 real estate markets in 21
an understanding of the institutional environ- countries from 1987 to 1997. They examine
ments is essential for making international the mean returns, standard deviations and
investment decisions and one should not correlation coefficients and find they were
blindly depend on asset allocation models. relatively low, ranging from 0.33 to 0.44 for
Addae-Dapaah and Yong (1998) examine all property types across countries. They then
the potential diversification benefits from test to see if real estate returns are correlated
holding international real estate investments with GDP changes in the individual coun-
in an office portfolio from the viewpoint of a tries. To do this analysis, the authors create
Singaporean investor. The research employs an equally weighted index of international
market rental and capital value data on nine GDP changes. They find evidence that cross-
different office property markets from the border correlations are partially due to a
Jones Lang Wootten Asia Pacific Property common exposure to fluctuations in the glo-
Digest. The return series spans from 1984 to bal economy. They also find that country-
1997. The authors focus on the impact of specific GDP changes help to explain some
currency risk on the performance characteris- of the variation. For their analysis, the re-
tics and the efficient frontiers of an interna- searchers adjust all returns to a US investor’s
tionally diversified office portfolio in the perspective so currency risk is not explicitly
Asia–Pacific region. Quarterly returns are ad- examined. The authors then examine the di-
justed for currency from the Singaporean versification benefits from adding inter-
investor’s perspective. Without currency ad- national property to a real estate portfolio
justments, the correlations coefficients are and conclude that industrial property invest-
relatively low positive and negative correla- ments achieve the greatest reduction in risk
tions suggesting gains from diversification. while office investments achieve the least
Incorporating exchange rate fluctuations has reduction in risk.
both a positive and negative impact on the Several recent industry-sponsored reports
mean returns and correlation coefficients de- have also been released that are strong pro-
pending on the market combinations under ponents of including international real estate
consideration. However, the authors find that in an investment portfolio. Henderson In-
the differences between the currency ad- vestors (2000) examines mean returns, stan-

dard deviations, coefficient of variation and (MPT) and so they require the same caution
correlation coefficients for the US, the UK, and caveats given to the studies in the pre-
Australia, continental Europe, Asia and the vious section. In addition, the real-estate-
world using an annual return series from only studies have a further problem in that
1984 to 1999. They find that over the past 15 they are not a true reflection of a typical
years, a global real estate portfolio would institutional investor who holds a mixed-as-
have offered a higher return per unit of risk set portfolio that is primarily allocated to
than a single property market. They find that other asset class investments. As noted ear-
global markets are not perfectly correlated lier, real estate is only about 5–8 per cent of
providing diversification benefits—particu- the typical institutional investment portfolio.
larly from Asian markets ( ⫺ 0.13 US/Asia). Therefore, the decision to invest in inter-
They do not do any analysis on the currency national real estate should not be made in
risk associated with an international invest- isolation—an implicit assumption of the
ment strategy.6 work summarised in this section. In theory,
Whitaker (2001) also argues for inter- the alternative assets an investor is consider-
national direct real estate diversification. The ing should all be considered at the same time
proxy for international real estate is the IPD because asset allocations shift as additional
index in both the UK and Ireland from 1979 assets with alternative performance charac-
to 2000 (annual returns). For the US investor, teristics are added to the opportunity set.
the NCREIF index is used. He finds that Worzala (1992) finds that the percentage
adding private, direct international real estate asset allocations within the real-estate-only
to a US investor’s portfolio improves per- portfolio and the mixed-asset portfolio are
formance. He also notes that international similar when the minimum variance port-
real estate investment is where growth is folios are considered. However, as the inves-
likely to occur as developing countries are tor moves out on the efficient frontier, the
presently experiencing higher economic proportional allocations to the various real
growth than the developed countries. These estate investments change significantly be-
emerging markets will need an increase in tween the real-estate-only portfolio and the
investment-grade real estate to meet the mixed-asset portfolio. The main reason for
needs of their expanding economy. As with the difference is that, as additional assets are
Baum (1995), the author cites the advantage added to the portfolios, the relationship be-
of access to capital money as essential for tween the assets will change, particularly the
growth; developing market investors may not covariances of the assets involved. Addi-
have the same access to capital markets, thus tional research is necessary into the validity
increasing diversification benefits. of using real-estate-only diversification
The studies in this section all focus on strategies for an institutional investor that has
analysing the potential diversification a mixed-asset portfolio to invest. This re-
benefits in a real-estate-only portfolio con- search is extremely important as the practical
text. Even though the authors use a number limitations of making investments typically
of different return series and countries, the result in investors making the real estate
conclusion from most of the studies advo- allocations in isolation from the other asset
cates the inclusion of international real estate classes. Further studies are needed to deter-
in a mean–variance framework. International mine under what conditions the allocation
efficient portfolios outperform domestic-only from a real-estate-only portfolio can or
real estate portfolios. It appears as though the should be used for the mixed-asset portfolio.
consensus is that both the property type and
region make a difference and regional di-
Analysis of Currency Risk in International
versification appears to be more important.
Real Estate Investing
The majority of the studies in this section
employ the mean–variance framework In most of the research analysing the di-

versification benefits of international real es- assume that the loan will be continually
tate investments, researchers have assumed taken out on an annual basis and will be
either that returns were unhedged or fully subject to annual interest rate adjustments.
hedged at no costs. In a few studies, both The increased level of volatility means that
techniques are used and it is clear that cur- the international investor does not gain from
rency fluctuations change the diversification holding international real estate investments.
benefits associated with international real es- Their chosen scenario, however, is not
tate investments.7 In some cases, it may be necessarily how back-to-back loans work. In
appropriate to consider hedging the currency most cases, the international investor works
exposure of an investment—that is, use a with a local investor that typically has a
financial instrument to ensure that adverse comparative advantage in borrowing funds
currency movements do not affect invest- locally. In addition, they will have access to
ment returns. Unfortunately, most of the fixed-rate financing for a specified period of
available hedging instruments have been de- time. In this type of arrangement, the foreign
signed for use with short time-horizon as- investor would make interest payments (pre-
sets—stocks, bonds and cash. As a result, sumably from the foreign asset income) and
while they may be well suited to hedging repay the loan on maturity (from the sale of
indirect property investments, such as shares the asset). The financial risk could be locked
in real estate investment trusts or property in for the holding-period and currency risk
companies, they may be less appropriate for mitigated. However, any surplus capital after
direct equity ownership of foreign property. repayment of the loan is still subject to cur-
Given its high transaction costs and relative rency risk. In addition, a loan could also have
illiquidity, directly held real estate tends to accounting implications and there is the po-
have longer holding-periods than more liquid tential for default risk that also needs to be
assets. The long holding-period adds uncer- analysed. This is an area where further re-
tainty to the investment, since the final sale search would be beneficial to shed light on
price (exit value) is unknown, making it the potential of using domestic leverage as a
difficult to hedge the capital appreciation. hedging strategy for an international real
Furthermore, few of the available hedging estate investment.
instruments have long settlement-periods, Two other studies explore the use of op-
making the task of hedging more complex. In tions (Ziobrowski and Ziobrowski, 1993) and
developing a currency strategy, an investor forward contracts (Ziobrowski and Zio-
must consider transaction risk (the risks asso- browski, 1995). Both studies are also framed
ciated with the actual purchase of the asset in within a portfolio context, utilising appraisal-
the foreign currency) and translation risk (the based real estate index returns adjusted on a
impact of currency movements on the re- periodic (generally annual) basis. While this
patriation of funds, both of income and of the is consistent with reporting standards, the use
uncertain terminal value).8 of a hedge with this type of data effectively
A few studies have focused on using some implies annual repatriation of funds. In prac-
of the alternative hedging techniques. In Zio- tice, while rental income might be repatri-
browski and Boyd (1991), the researchers ated, the capital gain component can only be
attempt to hedge the currency risk by incor- realised on sale of the property and is, thus,
porating US leverage to protect the British dependent upon aggregate currency move-
and Japanese investor from currency ment over the holding-period rather than on
fluctuations. In their analysis, the inter- the sub-period movements. In the absence of
national investor takes on varying levels of long-term contracts, both strategies should
US debt to reduce currency risk. The re- require an investor to stack up a number of
searchers find that this strategy does indeed short-term options or contracts at the start of
reduce the currency risk, but the investor the holding-period and incur settlement costs
trades currency risk for financial risk. They over time. In both studies, the authors avoid

roll-over costs and assume that the contracts tored in for the sale price at the end of the
close out at the end of each year without holding-period, which depends on rental
incurring settlement or transaction costs. growth, depreciation and shifts in the capital-
Making more realistic assumptions, isation rate (initial yield).
Worzala (1995) examines the use of forward The authors use a straightforward (‘plain
contracts for a US investor purchasing UK vanilla’) currency swap to hedge the income
real estate. She shows that forward contracts element of the investment. The return gener-
appear to improve the risk-adjusted return ated by the property is then analysed using a
(measured by the coefficient of variation) for Monte Carlo simulation approach. A series
the US investor. However, when the trans- of trials are run with the currency allowed to
action and roll-over costs of the three-month vary randomly but subject to a set of rules.
forward contracts are included, the volatility Three scenarios were tested: an appreciating
increases sharply. Over this particular time- dollar (which has negative impact for the US
period, the investor would have obtained su- investor), an appreciating pound (positive for
perior results by ‘going naked’—that is, not the investor) and a neutral, randomly
attempting to hedge at all. fluctuating exchange rate (which is broadly
In Ziobrowski et al. (1997), the re- neutral but increases investment volatility).
searchers examine the use of currency swaps. The costs of the swap (a 1 per cent initiation
In this study, they find that hedging the US fee and a 25-basis-point charge on swap
real estate investment with swaps suppresses payments) are incorporated into the analysis
most of the currency risk but the improve- but the capital appreciation is left unhedged.
ments are insufficient to produce diver- As might be expected, when the pound
sification gains in the context of a appreciates, the investor loses out both from
mean–variance portfolio context.9 the cost of the hedge and the failure to
Worzala and co-workers (Worzala et al., benefit from the favourable currency shift.
1997; Lizieri et al., 1998) argue that results This effect overwhelms any reduction in
based on portfolio-based indices may be mis- volatility. Similarly, when the currency shifts
leading for all but the largest institutional against the investor, hedging is highly advan-
investors. Most investors would be exposed tageous (an IRR of 9 per cent hedged com-
to tracking error and specific risk, given the pared with 4.8 per cent unhedged). The
heterogeneity of private real estate perform- interesting case is the random currency
ance and the typically small number of for- fluctuation. Here, the cost of hedging reduces
eign properties held. Moreover, they argue the overall return (IRR 9.64 per cent to 9.97
that ex post data are historically contingent per cent, NPV £0.699 million to £1.077 mil-
and hence ignore uncertainty. (This problem lion) but the currency swap greatly reduces
is also addressed in Cheng et al., 1999.) As a the volatility of the investment (the standard
result, they suggest that the appropriate test deviation being reduced six-fold) resulting in
of the efficacy of hedging techniques for a superior risk-adjusted return. The authors
individual investors is to use a forward- suggest that this provides evidence that it
looking simulation approach with realistic may be feasible to hedge partially against
expectation and volatility inputs for key vari- adverse currency movements in making
ables.10 international real estate investments.
Worzala et al. (1997) examine the use of From this original study, three additional
simulation to model the impact of hedging an studies have been done to examine the use-
international investment (a UK office build- fulness of alternative hedging techniques. In
ing) with currency swaps for a US investor. Lizieri et al. (1998), the authors continue to
The investment is 100 per cent leased on an explore just the use of a currency swap but
upward-only rent review contract and is they also examine the impact of currency
analysed over a five-year holding-period so fluctuations on the reversionary value by
rental income is stable. Uncertainty is fac- allowing the capitalisation rate and the

market rents to vary. In all scenarios, the use that large institutional investors will have
of the currency swap reduced the volatility of other international investment allocations
returns but the swap’s ability to reduce risk and should invest in a currency overlay man-
becomes more limited as the cash flows be- agement system to manage the entire ex-
come less certain. In Johnson et al. (2002), change rate exposure for the portfolio.
the authors continue to use an office building Currency assets and liabilities could be
simulation. In this study, they employ a com- netted out to reveal the net exposure to par-
bination of both a currency swap to hedge ticular exchange rate movements and that
the initial investment and periodic cash flows risk could then be managed centrally, max-
and a forward contract taken out on the imising economies of scale in carrying out
expected appreciation in the property value. the currency hedges. This is definitely an
The ability of the swap alone to reduce risk area where future research will be important
turns out to be somewhat limiting but the as investors implement their diversification
combination of swap with the forward con- strategies of including international real
tract enhances the overall performance, estate in the investment portfolio.
greatly reducing the uncertainty associated Whitaker (2001) also suggests some strate-
with the investment and in turn the downside gies for mitigating currency risk that include
risk. Finally, Johnson et al. (2001) examine hedging but correctly acknowledges this is
the ability of the combination currency swap only an appropriate strategy for real estate
and forward contract strategy to hedge an investments in developed markets, given the
international hotel investment. This product lack of hedges available for capital invested
type carries a significantly greater level of in emerging markets. He also advocates the
cash flow uncertainty and again the combi- use of domestic leverage. Finally, he sug-
nation of a currency swap and forward con- gests an additional strategy that investors
tract is the most successful in allowing the could focus on investments in markets where
investor to mitigate the impact of adverse they can negotiate lease terms denominated
currency fluctuations and to capitalise on in their own currency. A US investor would
currency markets if they move in the inves- look for dollar-denominated rents while
tor’s favour. The results were relatively sen- Europeans might negotiate euro-denominated
sitive to the underlying assumptions rents. In this scenario, currency risk is passed
regarding costs of the swap and the discount on to the tenants.
rate used for the analysis. If these variables Another recent contribution to the hedging
are increased, many of the advantages of debate includes a study by Hoesli et al.
purchasing the hedging instruments are elim- (2002) where they analyse efficient portfolios
inated. However, incorporating the hedging that are constructed with local returns and
strategy significantly reduces the level of also with returns that are hedged for currency
downside risk associated with the investment risk using a forward contract denominated in
as the range of simulated net present values US dollars. Results are interesting in that
is reduced, particularly in terms of losses. they find not all nationalities need to hedge
The above studies assume that investors their currency risk. The US and UK investors
would hedge at the individual-property level have better performance from the unhedged
or on a country-by-country basis for their mixed-asset portfolios while investors in
real estate investments. While this might be a some of the smaller countries gain additional
valid assumption for an individual investor benefits by taking on a forward contract
or a property company with exposure to just hedging strategy. It is not entirely clear how
one or two foreign real estate markets, it may the researchers incorporated settlement costs
not be an optimal strategy for a large corpo- but they have included transaction costs for
rate or institutional investor with a di- the forward contract in their hedged returns.
versified international portfolio. Kateley In summary, currency risk is an important
(2002) states that currency risk is real but factor that should be included in the analysis

when considering an international real estate worked to keep international real estate out
investment strategy. The investment charac- of the efficient portfolios.
teristics of commercial real estate make Over the years, additional analysis has
many of the financial hedging instruments been completed and studies show that there
developed for more liquid assets like stocks is a common continental factor and regional
and bonds inappropriate for directly held factors that should be considered in the over-
property. However, some of the risk of ad- all investment strategy. These studies con-
verse currency moves can be hedged, partic- clude that investment decisions should not be
ularly where rental cash flows are made solely on a geographical basis. Other
comparatively stable. For firms with di- studies focused on comparing the direct real
versified mixed-asset portfolios of inter- estate asset class with other investments, pri-
national assets, it may be more efficient to marily the stock markets in the various coun-
manage currency risk at the overall portfolio tries. Again, the majority of the studies
level. However, performance measurement conclude that diversification benefits are
of individual assets and asset classes should likely as the markets are not perfectly corre-
strictly reflect their contribution to the costs lated, but the degree of similarity varies de-
of currency management. There is little evi- pending on the countries analysed. For most
dence that this takes place in practice and of these studies, the data series are short. As
this is another area that is open for further time passes and data become more available,
research. future researchers will be able to provide
better insights into the true performance
characteristics of the real estate asset class.
Conclusions and Implications for Further
In addition, many researchers question the
Research
use of ex post data to ascertain the inputs for
Over the past 20 years, a significant amount the mean–variance portfolio analysis. The
of research focusing on direct international majority of research summarised in this pa-
real estate as an alternative asset has been per uses historical data and mean–variance
completed. As the availability and quality of portfolios to analyse the benefits of inter-
data have increased over time, studies have national real estate. Modern portfolio theory,
expanded to include more sophisticated however, suggests the expected performance,
analysis but there are still many questions so the reliability of the results from the stud-
that have been left for future research. In the ies summarised in this paper is questionable.
early studies, researchers studied the individ- Currency risk has been shown to be an
ual real estate markets using relatively crude important consideration for the international
proxies for real estate including rental rate investor. This area of research is still in its
growth. Later studies combined real estate infancy. A limited number of studies high-
assets into a mixed-asset portfolio with inter- light this risk and examine ways to try to
national stocks and bonds also included in mitigate it but the area remains relatively
the opportunity set. For the most part, results unchartered, particularly for an investor
concluded that international real estate did holding a mixed-asset portfolio with both
provide diversification benefits and investors short-term (stock) and long-term (real estate)
should not ignore this asset class when mak- assets that are subject to exchange rate
ing asset allocation decisions. The one major fluctuations. Several authors suggest a cur-
exception to these results are the findings by rency overlay management strategy for the
Ziobrowski et al. published in several papers portfolio, but at this point no research ex-
throughout the 1990s. However, as detailed plores what the strategy might actually entail.
earlier in this paper, questionable data There are a significant number of other
sources as well as the annual repatriation of issues that have not been included in the
funds adjusted for the same exchange rate portfolio diversification studies but are areas
fluctuations as the alternative asset classes, for future research so that we can better

understand the international real estate in- phia). The global portfolio is defined as a
vestment. The treatment of accounting, tax portfolio that includes equally weighted
office exposure in each of these markets.
and legal implications from owning real es- 6. Lowrey (2002) is another professional re-
tate on an international basis has not yet been searcher who is bullish on international real
explored by any of the researchers. Institu- estate suggesting 20–30 per cent of the real
tional differences between countries are ob- estate portfolio should be invested overseas.
vious, but no one has explored how one In his analysis, he creates a hypothetical
portfolio with domestic and international real
might measure and account for their impact estate and finds the internationally diversified
on returns. Finally, there is some early re- portfolio outperforms the domestic one.
search that markets are converging but it is Although the analysis and results are inter-
difficult to test, as the time-series of data for esting, the author provides no background
most real estate markets is too short. All of or justification for data that is used in the
analysis.
these areas are fertile ground for further 7. Several studies of institutional investors that
research. hold international investments (Worzala,
1994; Newell and Worzala, 1995; and Lizieri
et al., 1998) find that the importance of
Notes currency risk varies from investor to inves-
tor. For the most part, the western European
1. Specific details on the database and return investors find it to be the least important
calculations were unavailable. problem for oversea investments (Worzala,
2. A few additional papers by these authors 1994) while Asian and Pacific Rim institu-
published in the 1990s (Newell and Webb, tional investors find currency hedging to be
1994 and 1998) provide a summary of data an important component of their inter-
available to track institutional investments in national investment strategy (Newell and
several counties. In the first paper, they focus Worzala, 1995).
on the UK and Australia and explore the 8. See Worzala (1995) for a review of the
Investment Property Databank (IPD) data alternative hedging techniques available to
series (1971–92) for the UK and the an international real estate investor.
BOMA–Russell Property Index (1984–92) in 9. See Worzala et al. (1997) for a full dis-
Australia. In the second paper, the authors cussion of the Ziobrowski et al. series of
explore New Zealand and South Africa. studies.
They compare mean returns, standard devia- 10. Nelson (1989) runs simulations and illus-
tions and correlation coefficients and find trates the impact of exchange rate changes
low and negative correlations between real for three different investors (Japanese, Ger-
estate and the traditional financial assets for man and Canadian) with two different real
both countries. estate investments: an all-cash equity invest-
3. The markets analysed were City of London, ment and a leveraged equity investment. In
West End, Glasgow, Brussels, Paris, Amster- both cases, the range of returns varied
dam, Madrid, Frankfurt, New York, significantly depending on the time-period
Chicago, San Francisco, Singapore, Mel- chosen and the investor’s nationality, illus-
bourne, Sydney, Perth and Dublin. trating the substantial impact that currency
4. Markets that were considered by the team can have on international real estate invest-
were London, Paris, Frankfurt, Sydney, ments. For the leveraged investment, the po-
Tokyo and a US portfolio predominantly tential downside risk is reduced and the
invested on the east coast. London, Paris and upside is enhanced.
Frankfurt all had two major sub-markets for
prime office development so investments
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Appendix
Table A1. Summary of international direct real estate diversification studies: mixed asset portfolio analysis
Countries or Time-
Author(s) Return data cities interval Treatment of exchange
Date used analysed of data Analysis completed Results rate
Ross and Webb Residential rental 14 countries 1958–79 Use CAPM to get betas Conclude real estate has Rental indices converted
(1985) index from the Annual for each country. Market less systematic risk and to US dollars. No
UN index based on the GNP could be appropriate for discussion of currency
from 8 countries diversification benefits implications
Marks (1986) Prudential’s 6 countries 1978–84 Computes real estate and Finds US real estate Explicit discussion of the
Property Quarterly equity returns from the outperforms every changing risk and return
Investment perspective of each country equity index characteristics of the
Separate Account individual country except Japan investments when
(PRISA) investor to examine how currency is incorporated
currency translation and
Equity indices inflation would have
from each impacted returns for the
country various asset classes
Webb and UK real estate: UK Bus RE 1926–86 Correlation matrix Correlation coefficients Returns denominated in
Rubens (1989) Finnegan’s Green US Bus, Res Annual efficient portfolios suggest diversification US dollars
Sheets and farm benefits. International
US financial real estate fails to enter
US financial assets the efficient portfolios
assets: Ibbotson
and Sinquefield
Giliberto (1989) US real estate: US and UK 1980–88 Compares nominal and Some gains from No currency analysis
Russell–NCREIF Quarterly real returns between international
INTERNATIONAL DIRECT REAL ESTATE INVESTMENT

index countries. Compares real diversification
estate with other financial
UK real estate: assets
Weatherall,
Green and Smith
Ziobrowski and US data: US Bus, Res, 1973–87 Mean returns, standard Find no gains from Returns denominated in
Curcio (1991) Ibbotson et al. and farm Annual deviations, correlation diversification each investor’s
matrix and efficient perspective
UK financial frontiers from the Find that, when currency
assets: BZW UK Bus and perspective of a US, was not adjusted, the
1103
farm British and Japanese minimum variance

Table A1.—continued
1104
Countries or Time-
UK real estate: Jap Bus, Res, investor portfolio for a UK

IPD for and farm annual investor would include
agriculture and a US real estate. When
blend of two data- returns are adjusted, the
sets for international assets
commercial real become highly correlated
estate: JLW and international real
1973–80 and a estate drops out of the
pooled data-set efficient portfolios
with other firms
1981–87.
Japan financial
assets: Hamao
Japan real
estate: the
Japanese Real
Estate Institute
Ziobrowski and Same as above Same as above Same as Add an analysis of Find no evidence of Returns denominated in
Boyd (1991) above leverage to the above diversification gains each investor’s
research to examine the perspective
potential of hedging
currency fluctuations
from taking out local
C. F. SIRMANS AND ELAINE WORZALA
loans
Worzala (1992) US: NCREIF, US and UK 1980–91 Mean returns, standard Find gains from Examine with and
and S&P 500, (Annual and deviations, coefficient of international without currency

Worzala and Shearson quarterly) variation, correlation diversification. More adjustments from both
Vandell (1995) Lehman Two sub- coefficients and efficient likely if currency the UK and US
Government/ periods: frontiers fluctuations are not investor’s perspective
Corporate Bond 1980–94 included in the analysis
index and 1985–
91 Results are not stable
UK: Weatherall over time
Green and Smith
(WGS), FT-A
500, 1–15 year
gilt index
Newell and US: NCREIF, US, Canada, 1985–93 Mean returns, standard Find low correlations Returns analysed with
Webb (1996) S&P 500, UK, Australia Biannual deviations and between asset classes and without currency
intermediate-term and New correlation coefficients ranging from ⫺ 0.42 (Aus adjustments from each
government Zealand Tested for bonds and USRE) to 0.81 investor’s perspective
bonds autocorrelation in the (Can bonds/US bonds)
time-series due to Autocorrelation analysis
Canada: Russell– appraisal smoothing suggests the risk
Canadian index, estimates for real estate
TSE 300, Scotia– should be increased by
McLeod long- 34–47 per cent depending
term government on the country to account
bonds for appraisal smoothing
and intertemporal
UK: JLW, FTA correlations. Adjusting
All Shares, long- returns for currency
dated gilts fluctuations show an
increase in risk but the
Australia: correlation coefficients
BOMA, All for real estate fall
ordinaries, providing some evidence
greater than 10- that diversification
year government benefits may be
bonds enhanced
New Zealand:
JLW, NZSE40
gross index, CS
First Boston
government
bonds
Quan and Titman Real estate: All- 17 countries: 1977–94 Mean capital and income Find a wide range of No currency analysis
(1997) cities index from Australia, 1987–94 returns as well as total correlation coefficients
JLW except for Belgium, for returns. Correlation

from ( ⫺ 0.79 to 0.886 for
Australia, Canada, France, Indonesia coefficients between capital returns and ⫺ 0.821
Canada, NZ and Germany, HK, and New property investments in to 0.999) for income
US where the Indonesia, Italy, Zealand each country and with Find the relationship
Frank Russell Japan, Malaysia, the stock market in each between real estate and
indices are used the Netherlands, country stock markets is strong
New Zealand, and positive but varied
Stocks: Morgan Spain, from country to country:
Stanley Capital Singapore, most significant in the
International Taiwan, US Asia–Pacific region;
except for and UK US, Australia, Canada
1105
Malaysia (KL and Hong Kong do not

1106
Countries or Time-
Composite have significant

Index) and correlation coefficients
Indonesia (all between real estate and
stocks index on stock markets
the Jakarta
exchange)
Stevenson (1998) 18 stock markets Real Estate: US 1980–96 Mean returns, standard Find that real estate Analysis completed with
and UK Quarterly deviations, correlation remains in the portfolios and without currency
5 bond markets coefficients and efficient when international adjustments. Suggests
Stocks: Austria, frontiers. Also financial assets are hedging may be
US direct real Australia, constrains portfolios to added. Real estate tends important but is not
estate: NCREIF Belgium, include a minimum of to be in the low included in the analysis
index Canada, 15 per cent in domestic risk/return level
Denmark, stocks and bonds. Portfolios portfolio. When the
US indirect: France, do not include domestic opportunity set
NAREIT Germany, HK, international real estate, is constrained, real estate
Italy, Japan, the just international takes on a larger role in
UK direct real Netherlands, financial assets the portfolio
estate: Jones Lang Norway, Spain,
Wootton index Singapore,
Sweden,
UK indirect: UK Switzerland,
property UK and US
companies
Bonds: Germany,
Japan, the

Netherlands,
UK and US
Quan and Titman Real estate: 17 Australia, 1984–96 Mean returns, correlation Find significant positive With and without
(1999) countries all-cities Belgium, and then coefficients and a model relationships between currency adjustments to a
index from JLW France, two sub- to isolate any common real estate capital values, US investor’s
that is built on Germany, HK, periods factors rental rates and stock perspective, but no
consensus opinions Indonesia, Italy, 1983–89 returns. Find large analysis of the impact
on capital and Japan Malaysia, and 1990– degree of positive Regression models are
rental values the Netherlands, 96 correlation due to based on US$-
New Zealand, Annual changes in each denominated returns
Stocks: MSCI Spain, country’s GDP; also,
except for Malaysia Singapore, changes in rental rates
(KL Composite Taiwan, US and Find real estate tends to
Index) and New UK be a good long-term
Zealand Stock hedge for inflation
Exchange
Chua (1999) French and German France, 1977–97 Adjusts data for appraisal Finds that the efficient frontier Returns denominated in
real estate: JLW Germany, Quarterly smoothing. Analysis including international each investor’s
Japan, UK and includes taxes, real estate outperforms perspective
Japanese US transaction costs and portfolios that do not
investments: JLW, asset management fees Inclusion of real estate
DataStream and Also, puts constraints on reduces portfolio risk by
Nomura the portfolios including as much as 16 per cent and the
no short sales, a optimal portfolio
UK real estate: maximum level of any allocations to real estate
IPD one asset in one country ranged from 3.7–20.7 per cent,
set at 20 per cent, maximum of depending on the level of
US real estate: any asset in any country risk/return
NCREIF and IPC set to the GDP weight of
the asset in its country
Stock markets: and a maximum
MSCI allocation to cash in all
5 countries is set at 3
Bond markets: times the world-wide
IMF and Smith average of pension fund
Salomon and allocation to cash
Barney
Cash: IMF and
Ibbotson (US)
Gold: Ibbotson.
Cheng et al. US financial assets: US, UK and 1973–94 Use a bootstrap Find that correlations are Returns denominated in
(1999) Ibbotson Japan Annual simulation technique to low between domestic each investor’s

create the data-set markets and foreign perspective
US real estate: EAI Examine mean returns, markets; for same-
standard deviations and country investments they
UK financial the coefficients of are relatively high and
assets: BZW variation. Create currency-adjusted
efficient portfolios with international investments
UK real estate: IPD three different from the same country
opportunity sets: are highly correlated due
Japanese financial domestic only, domestic to the common currency
assets: Ibbotson plus foreign financial adjustment. Conclude that
1107
assets and domestic plus currency risk is large and

1108
Countries or Time-
Japanese real international financial dominates asset volatility

estate: The assets and real estate of foreign investments
Japanese Real Find evidence that under
Estate Institute some circumstances
international real estate
investments are optimal
(up to 20 per cent)
For high risk tolerant
investors, they suggest
5–10 per cent in
international real estate
AIG (2001) US real estate: US, UK, Ireland 1979–2000 Mean returns, standard Majority of correlations No currency analysis
NCRIEF, NAREIT Quarterly deviations, coefficient of are low, ranging from
variation, correlation ⫺ 0.35 (US
UK real estate: coefficients and efficient bonds/NAREIT) to 0.56
IPDUK, IPD frontiers comparing US (IPD UK and NCREIF)
Ireland stocks and bonds, US Find gains from
assets only to US assets international
US financial assets: and international real diversification
Ibbotson and estate
Associates
Hoesli et al. Stocks: MSCI US, UK, 1987–2001 Mean returns, standard Find that the correlation Analysed data with no
(2002) France, the Annual deviations, correlation coefficients of direct and currency analysis and
Indirect real estate: Netherlands, coefficients and efficient indirect real estate are then used forward

Global Property Sweden, frontiers for three relatively low for both contracts to hedge the
Research Switzerland scenarios: financial assets the hedged and unhedged international
and Australia including indirect real return series suggesting investments. Also
Bonds: Smith estate only, adding diversification benefits which included the transaction
Salomon Barney domestic direct real vary depending on costs associated with the
estate, adding the country analysed hedging strategy
Direct real estate: international direct real When hedged returns are
US: NCREIF estate proxied by the used, the real estate
UK and France: World real estate index correlations stay the
IPD same but the bond
Netherlands: Complete analysis from correlations increase. In
ROZ/IPD the investor perspective both scenarios, asset
Sweden: Alecta and of each country allocations to real estate
SEI/IPD within the efficient
Switzerland: portfolios fall in the 15–
IAZI/CIFI 25 per cent range including
Australia: Property both domestic and
Council international real estate
Find that the impact of
International indices: hedging, however, varies
MSCI global, SSB depending on the country
global, GPR global and the authors suggest
and for real estate that hedging does not
created by improve the performance
weighting the for the UK and US
constituent indices investor while it is
by their respective beneficial for many of
GDPs the other investors

1109
Table A2. Summary of international direct real estate diversification studies: real-estate-only portfolio analysis
1110
Countries or Time-
Author(s) Return data cities interval Treatment of
Date used analysed of data Analysis completed Results exchange rate
Sweeney (1988) Annual rental L, WE, G, B, P, 1977–87 Correlation matrix Finds gains from Addressed briefly but not
growth of office A, M, FF, NY, Annual viewpoint of UK, US international explicitly analysed in the
markets collected C, SF, S, Mel, and Japanese investors diversification paper
by Richard Ellis Syd, Pth Combines SF and G in a
portfolio Returns denominated in
each investor’s
perspective
Arnold and L, P, S real L, P, S, US 1978–87 Mean returns, standard Find US real estate is No currency analysis
Kavanaugh estate: JLW Annual deviations and positively correlated with
(1998) Property Index correlation coefficients Sydney and Paris but
negatively correlated
US real estate: with real estate in the
NCREIF index city of London
Sweeney (1989) Annual rental B, P, A, NY, 1978–87 Correlation matrix and Finds gains from No currency analysis
growth of office FF, T, Syd, HK, Annual efficient frontier based international
markets collected T, M, L on historical returns diversification
by Richard Ellis
Reid (1989) Annual rental B, P, A, NY, 1978–89 Correlation matrix and Finds gains from No currency analysis
growth of office FF, T, Syd, HK, Annual constructs an equal international
markets collected TY, M, L weighted portfolio diversification

by Richard Ellis
Wurtzebach Jones/Lang NY, FF, 1985–89 Creates a hypothetical Finds that the No currency analysis

(1991) Wootton and London, Paris, Annual office portfolio with international portfolio
Prudential Realty Sydney equal weightings in all has superior risk/return
Group countries performance to pure
domestic portfolios
Gordon (1991) US real estate: US and UK 1970–90 Mean returns, standard Finds gains from Basic analysis with no
combined EAI Annual deviations and international currency analysis
Survey and the correlations for all asset diversification Examines returns with
NCREIF Index classes. Look at UK and without currency
property returns and all adjustments finding that
UK real estate: assets had no or negative currency alters the
combined JLW correlation except for US returns for the various
Property Index inflation. Built property- asset classes. Suggests
and the IPD only portfolios investor take a long view
Index systematically changing and ignore short-term
the allocation to one currency fluctuations
country or the other
Worzala (1992) US real estate: US and UK 1981–91 Mean returns, standard Finds gains from Examines data with and
NCRIEF Index Quarterly deviations, correlation international without currency
coefficients and efficient diversification adjustments from both
UK real estate: frontiers the UK and US
Weatherall, investor’s perspective
Green and Smith Finds currency
adjustments reduce
diversification benefits
Eichholz et al. US real estate: US and UK US:1983–92 Use Jennrich test of Find diversification No adjustment for
(1995) NCREIF Index correlation matrices and benefits vary depending currency, but analysis
both property and Quarterly find diversification on country, property was within asset and also
geographical benefits are greater for type and region within country so
breakdown UK:1973–93 geographical location than considered. Geographical currency adjustment was
property type. Analysis location had a larger not necessary
UK real estate: Biannual is primarily within impact than property
Investors country not across type
Chronicle Hillier country. Also look at
Parker efficient frontiers and
use principal
components analysis
Goetzmann and ICPA database of Australia, 1986–93 Analyse returns over Conclude the US Returns denominated in

Wachter (1995) asking rents and Belgium, Annual and time; use principal property crash was a US$
yields for 21 Canada, in a few components analysis; use global crash and that
countries, office Denmark, cases naı̈ve efficient portfolios, office property
only Finland, France, quarterly K-means cluster analysis performance moves with
Germany, and bootstrapping global business cycles
Holland, HK, techniques to analyse the With principal
Ireland, Italy, data component analysis, they
Malaysia, find that 44 per cent of the
Norway, variation is due to a
Portugal, common factor so the
1111
Singapore, ability to diversify risks

1112
Countries or Time-
Spain, Sweden, by international

Switzerland, investment in the office
Taiwan, UK and property segment is
US questionable. Find
North America is not a
separate group and
clusters apart with the
UK and Australia. More
conservative portfolios
are tilted towards the US
and continental Europe,
while more aggressive
portfolios are tilted
towards Asia and the
Iberian countries
Hudson-Wilson US real estate: US and Canada 1980–94 Mean returns, standard Find that a portfolio Analysis completed with
and Stimpson NCREIF Index Annualised deviations, correlation including US real estate and without conversion
(1996) Quarterly coefficients and efficient outperforms a Canadian- of US returns to
US cities: returns portfolios. Start with only portfolio. Find that Canadian dollar
Property and including the US data apartments improve Acknowledge risk could
portfolio and then move on to performance the most be substantial. Authors
research include property types when analysis is done by suggest a currency
database includes and cities in the property type. Find that overlay strategy for the
estimates for 4 investment opportunity results shift again when whole portfolio not just
property types sets individual city markets the international real
and 50 markets; are analysed estate investments

returns are based
on an
econometric
model that
forecasts total
return on
unleveraged real
estate.
Canadian:
combined the
Mourgand
Property Index
and the Russell
Canadian
Property Index
D’Arcy and Lee ICPA/ONCOR 9 European 1990–96 Mean returns, standard Find that the country No currency analysis
(1998) series countries Annual deviations and strategy has the largest
correlation coefficients impact in terms of
Retail, office, across countries, types of diversification followed
industrial cities (financial or not) by city type. Correlation
Capital vs and property types. Use coefficients ranged from
secondary cities, factor analysis to ⫺ 0.43 (Spain/UK) to 0.98
159 locations determine which strategy (Spain/Italy)
provides greatest
diversification benefits
Addae-Dapaah Jones Lang Singapore, 1984–97 Mean returns, standard Without currency Returns are adjusted for
and Yong Wootton Asia Malaysia, Quarterly deviations, correlation adjustments, the currency from the
(1998) Pacific Property Thailand, coefficients and correlation coefficients Singaporean investor’s
Digest Indonesia, the international office are relatively low perspective
Philippines, portfolios positive and negative
Use market Japan, Hong correlations
rental and capital Kong, Australia Incorporating exchange
value data on and New rate fluctuations has
office property Zealand impacts on returns and
correlation coefficients
that vary by market
combination but the
differences are not
statistically significant.
Find increased risk from
the currency risk is
marginal for the

efficient frontiers and it
is not statistically
significant
Case et al. ICPA with the Australia, 1987–97 Mean returns, standard Find correlation Returns denominated
(1999) ONCOR Belgium, Annual deviation, correlation coefficients across in US$
International Canada, coefficients and countries and property
Denmark, regression analysis to type ranged from 0.33 to
22 markets from Finland, France, test the relationship 0.44. Find cross-
21 countries Germany, between real estate border correlations were
1113
Holland, HK, returns and GDP changes partially due to a

1114
Countries or Time-
Stock market Ireland, Italy, in the different countries common exposure to

total return series Malaysia, Examined diversification fluctuations in the global
from each Norway, benefits of adding economy. Find
country Portugal, international property by international investment
Singapore, property type. Not clear in industrial properties
Spain, Sweden, how analysis was provides the most
Switzerland, completed diversification benefits
Taiwan, UK and office the least
and US
Henderson IPD, NCREIF, US, UK, 1984–99 Mean returns, standard Over the past 15 years, a No currency analysis
Investors (2000) Henderson Australia, Annual deviations, coefficient of global real estate
Investors, continental variation, and correlation portfolio would have
Property Council Europe, Asia, coefficients offered a higher return
of Australia World per unit of risk than a
single property market
Found global markets are
not perfectly correlated
providing diversification
benefits, particularly
from Asian markets
( ⫺ 0.13 US/Asia).
Property markets are less

correlated than the more
traditional financial
assets

Whitaker (2001) UK and Ireland: US, UK and 1979–2000 Mean returns, standard Find diversification No currency analysis
IPD Index Ireland Annual deviations, correlation benefits for a US
coefficients and an portfolio
US: NCREIF efficient frontier
Index
Note: B ⫽ Brussels; P ⫽ Paris, A ⫽ Amsterdam, NY ⫽ New York, FF ⫽ Frankfurt, T ⫽ Toronto, Syd ⫽ Sydney, HK ⫽ Hong Kong, M ⫽ Madrid, L ⫽ London, WE ⫽ West End of London,
Pth ⫽ Perth, TY ⫽ Tokyo.

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Urban Studies

International Direct Real Estate Investment: A Review of the Literature

The online version of this article can be found at:

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International Direct Real Estate Investment:

C. F. Sirmans and Elaine Worzala

0042-0980 Print/1360-063X On-line/03/05/61081–34  2003 The Editors of Urban Studies

Table 1. Portfolio size of institutional investors across the globe

Pension funds Insurance companies

Total 12 961 10 391

Source: Henderson Investors (2000).

Table 2. Estimates of the size of the investable institutional real estate

Institutional real Percentage of

North America 1598 37.3

Total 4280 100.0

Source: Estimated by Henderson Investors (2000).

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diversification. Similar to earlier work by national real estate in a mixed-asset portfolio.

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Insurance Company of America/Jones Lang WORZALA, E. (1994) Overseas property invest-

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farm British and Japanese minimum variance

UK real estate: Jap Bus, Res, investor portfolio for a UK

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JLW except for Belgium, for returns. Correlation

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Malaysia (KL and Hong Kong do not

Composite have significant

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assets and domestic plus currency risk is large and

Japanese real international financial dominates asset volatility

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markets collected TY, M, L weighted portfolio diversification

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Singapore, ability to diversify risks

Spain, Sweden, by international

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marginal for the

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Holland, HK, returns and GDP changes partially due to a